Citi: Bullish Trends For T. Rowe Make It ‘Study In Contrast’ To Janus

By Teresa Rivas

Citigroup’s William Katz has a new pair trade for investors: an overweight for T. Rowe Price (TROW) and an underweight for Janus Capital Group (JNS).

Although he maintains a Neutral rating overall on T. Rowe, he did increase his target price to $90 following the firm’s first quarter results yesterday on an improved flow outlook. By contrast, he has a Sell rating on Janus, and even though he boosted his price target slightly to $9, he continues to see “substantial downside risk.”

So what’s the benefit of this pair trade now? Katz has three reasons to bet on T. Rowe: It is a more favorable equity and fixed income play, it will enjoy accelerating trends for its flagship platforms, and it has faster organic , higher margins, better strategic positioning and better capital management flexibility—all for a lower valuation.

More from his note:

A study in contrasts — TROW’s target-date retirement business is a high growth, high margin engine that we see having strong secular tailwinds. This business accounts for 18% of 3/31 AUM and has delivered ~$14B net inflows over the LTM, and 20% annualized growth in 1Q. Deeper penetration into U.S. retail distribution bodes well for flow trends. By comparison, INTECH, JNS’s quant equities platform accounts for 28% of 3/31 AUM but continues to languish around unit growth, with management acknowledging the business faces structural share erosion from passive mandates.

Reading the mandate tea leaves — Post 1Q call, JNS management noted they are not seeing a pickup in active U.S. equity mandates among institutional clients. By contrast, TROW indicated pipeline for institutional remains steady. Given TROW has S/C and M/C capacity constraints, we can only infer solid demand for L/C mandates. Such dynamics reinforce our concern that despite some easing in redemption pressures of late for JNS in 1Q, JNS remains a share donor story.

What is the risk of the trade — The central push back we get from investors on JNS is that it is too cheap on cash flow, trading ~8x EV/EBITDA. TROW trades at 9x, suggesting the absolute and relative valuation arguments for JNS are much less fulsome, particularly given nearly 1/3rd of AUM are unlikely to grow over the foreseeable future (INTECH) while its U.S. mutual fund platform continues to attrite at among the industry’s highest levels. Both are equity centric, immunizing market risk to some degree, though we note TROW generated 16% Y/Y EPS growth in 1Q14 (ex $0.07 investment gains) while JNS was flat, when normalizing for 1Q14’s low incentive compensation. By contrast, a deteriorating tape may only serve to temper JNS’s ability to drive earnings leverage given adverse AUM mix shift.

About Focus on Funds

As exchange-traded funds and other investing vehicles have ballooned in number, the task of figuring out what works well and what doesn’t has only gotten harder. Barrons.com’s Focus on Funds looks under the hood of ETFs, mutual funds and hedge funds for overlooked values, actionable ideas and the latest pitfalls for fund investors.

Chris Dieterich has covered the U.S. stock market for The Wall Street Journal and Dow Jones Newswires. He is a graduate of Regis University and the Missouri School of Journalism.